The usefulness of inaccurate models: Towards an understanding of the emergence of financial risk management
Is the growth of modern financial risk management a result of the accuracy and reliability of risk models? This paper argues that the remarkable success of today's financial risk management methods should be attributed primarily to their communicative and organizational usefulness and less to the accuracy of the results they produced. This paper traces the intertwined historical paths of financial risk management and financial derivatives markets. Spanning from the late 1960s to the early 1990s, the paper analyses the social, political and organizational factors that underpinned the exponential success of one of today's leading risk management methodologies, the applications based on the Black-Scholes-Merton options pricing model. Using primary documents and interviews, the paper shows how financial risk management became part of central market practices and gained reputation among the different organisational market participants (trading firms, the options clearinghouse and the securities regulator). Ultimately, the events in the aftermath of the market crash of October 1987 showed that the practical usefulness of financial risk management methods overshadowed the fact that when financial risk management was critically needed the risk model was inaccurate.
If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.
References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Preda, Alex, 2001. "Sense and sensibility: Or, how should Social Studies of Finance behave? A Manifesto," economic sociology_the european electronic newsletter, Max Planck Institute for the Study of Societies, vol. 2(2), pages 15-18.
- Donald MacKenzie, 2006. "An Engine, Not a Camera: How Financial Models Shape Markets," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262134608, July.
- Miller, Peter & O'Leary, Ted, 2007. "Mediating instruments and making markets: Capital budgeting, science and the economy," Accounting, Organizations and Society, Elsevier, vol. 32(7-8), pages 701-734.
- Macintosh, Norman B. & Shearer, Teri & Thornton, Daniel B. & Welker, Michael, 2000. "Accounting as simulacrum and hyperreality: perspectives on income and capital," Accounting, Organizations and Society, Elsevier, vol. 25(1), pages 13-50, January.
- Black, Fischer & Scholes, Myron S, 1972. "The Valuation of Option Contracts and a Test of Market Efficiency," Journal of Finance, American Finance Association, vol. 27(2), pages 399-417, May.
- Galai, Dan, 1977. "Tests of Market Efficiency of the Chicago Board Options Exchange," The Journal of Business, University of Chicago Press, vol. 50(2), pages 167-197, April.
- Daniel Beunza Ibáñez & David Stark, 2004. "Resolving identities: Successive crises in a trading room after 9/11," Economics Working Papers 734, Department of Economics and Business, Universitat Pompeu Fabra, revised Sep 2005.
- Robert C. Merton, 2005.
"Theory of rational option pricing,"
World Scientific Book Chapters,in: Theory Of Valuation, chapter 8, pages 229-288
World Scientific Publishing Co. Pte. Ltd..
- Robert C. Merton, 1973. "Theory of Rational Option Pricing," Bell Journal of Economics, The RAND Corporation, vol. 4(1), pages 141-183, Spring.
- Black, Fischer & Scholes, Myron S, 1973. "The Pricing of Options and Corporate Liabilities," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 637-654, May-June.
- Clark, Gordon, 2000. "Pension Fund Capitalism," OUP Catalogue, Oxford University Press, number 9780199240487.
- Rubinstein, Mark, 1994. " Implied Binomial Trees," Journal of Finance, American Finance Association, vol. 49(3), pages 771-818, July.
- Mark Rubinstein., 1994. "Implied Binomial Trees," Research Program in Finance Working Papers RPF-232, University of California at Berkeley.
- Burchell, Stuart & Clubb, Colin & Hopwood, Anthony G., 1985. "Accounting in its social context: Towards a history of value added in the United Kingdom," Accounting, Organizations and Society, Elsevier, vol. 10(4), pages 381-413, October.
- Cox, John C. & Ross, Stephen A. & Rubinstein, Mark, 1979. "Option pricing: A simplified approach," Journal of Financial Economics, Elsevier, vol. 7(3), pages 229-263, September.
- Daniel Beunza & David Stark, 2004. "Tools of the trade: the socio-technology of arbitrage in a Wall Street trading room," Industrial and Corporate Change, Oxford University Press, vol. 13(2), pages 369-400, April.
- Brian Uzzi & Ryon Lancaster, 2003. "Relational Embeddedness and Learning: The Case of Bank Loan Managers and Their Clients," Management Science, INFORMS, vol. 49(4), pages 383-399, April. Full references (including those not matched with items on IDEAS)
When requesting a correction, please mention this item's handle: RePEc:eee:aosoci:v:34:y:2009:i:5:p:638-653. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Dana Niculescu)
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.